Wednesday, January 27, 2010

>A Tale of Two Recoveries (NOMURA)

The aftermath of the crisis should constrain the developed world recovery, but, led by a booming China, emerging markets look set for strong growth.

Our View on 2010 in a Nutshell

• The developed-world recovery looks set to be weak given de-leveraging forces and other legacies of the crisis.
• With good fundamentals and a lack of aftermath issues, the emerging world, particularly Asia, is set to grow strongly.
• Developed-world inflation should stay low amid ample spare capacity, but exchange rate -targeting central banks risk bubbles.
• The main downside risks include a re-eruption of financial distress, a commodity price bubble and premature fiscal tightening.
• A possible upside surprise: animal spirits stir and, with monetary conditions super-loose, help release pent-up demand.
• We forecast an average Brent oil price of $72 in 2010 and $75 in 2011, after $62 in 2009.
• We expect further dollar weakness, especially vs EM, but the yen should gradually trade weaker on MOF intervention.

United States
• The “Great Recession” has ended, but the after-effects of the financial crisis are likely to weigh on the recovery.
• Job market conditions are improving, but business uncertainty should limit job growth and keep the unemployment rate high.
• Typical of the first phase of recovery, ample capacity is likely to put downward pressure on inflation.
• We expect the Fed to focus on an orderly exit from credit easing, but not to hike rates until early 2011.
• Proposals for a jobs-focused fiscal policy must overcome resistance from those worried about adding more to a record deficit.

• We expect sub-par growth given household de-leveraging in the UK and feeble domestic momentum in the euro area.
• The fiscal policy challenge: deliver short-term stimulus within a credible framework of medium-term consolidation.
• Headline inflation is set to rise in the UK and euro area, but underlying inflation is likely to stay very weak.
• We expect the ECB to start gradually removing exceptional liquidity measures but not to start hiking rates until October 2010.
• The BoE MPC faces uncertainties on both sides and we do not expect rate hikes until November 2010.

• We expect the Japanese economy to slow again through H1 2010 but for growth to pick up again in the second half.
• Faster-than-expected excess supply corrections and expanding exports, particularly to Asia, should drive a recovery in H2.
• Given a wider negative output gap, we expect CPI deflation to persist for the foreseeable future.
• The BOJ is likely to adopt additional easing measures, such as increasing long-term JGB purchases, in H1 2010.

• Things look ripe for a paradigm shift – domestic demand is replacing exports as the main growth driver, led by China.
• China: The investment and consumption booms are set to continue and to deliver double-digit growth.
• Korea: We see an inflationary economic recovery in 2010, driven by a prolonged macro stimulus and strong China demand.
• India: With both growth and inflation headed towards 8%, we expect the RBI to lead Asia in tightening monetary policy.
• Australia: Despite less expansionary policies, we see GDP growth quickening on stronger capex, exports and housing.
• SE Asia: Bullish on Indonesia, Singapore and the Philippines; less so on Thailand and Malaysia; concerned about Vietnam.

EEMEA (Emerging Europe, Middle East and Africa) and Latin America
• Key themes in 2010 are the removal of supranational support, fiscal sustainability and the effects of exit strategies on rates.
• CEE will likely be the slowest region to recover. Vulnerabilities persist, especially with banks’ NPLs set to peak in Q2 2010.
• Elections in CEE are a risk, with knock-on effects for fiscal policy sustainability. We see Poland entering ERM-II in Q4 2010.
• South Africa: World Cup and restocking will mask a weak recovery in consumption; we see a change in the SARB mandate.
• Russia should return to stable, if subdued, growth in 2010, supported by oil prices and pent-up domestic demand.
• Turkey should show a strong rebound in 2010, allowing some policy normalisation. Inflation should remain in check.
• Middle East: The Dubai story is a key test of investor confidence in the region; growth momentum should be maintained.
• LatAm: Strong growth in Asia and expansive monetary and fiscal policy are leading to a cyclical recovery.

We expect a strong recovery in most of EM but a shallow one in the developed world.
Two key features of the global economy evident since the financial crisis of 2008 inform our global economic forecast for 2010. The first is that the developed economies, particularly the US and Europe, experienced their worst financial crisis since the Great Depression. The aftermath will cast a long shadow on their recovery. The second is that emerging markets (EM), particularly emerging Asia, after absorbing the initial hit to exports from the crisis-induced collapse in developed-world domestic demand, have performed remarkably well. Continuing this trend, EM economies are likely to post strong domestic demand-driven growth in 2010 (Figure 1).

Looking back, the growth numbers that we expect for the full year of 2009 speak for themselves. The global economy overall likely contracted by almost 1% in 2009, but developed-world GDP likely fell by 3.4% while EM economies expanded by 2.0%. Within EM, there was notable differentiation: EEMEA (Emerging Europe, Middle East and Africa) and Latin America likely contracted by 3.2% and 2.8%, respectively, while Asia looks likely to hit 5.5% growth.

China’s expected 8.5% growth in 2009, in such a challenging global environment, stands out. As well as benefiting from strong domestic growth momentum associated with a 30-year economic development take-off, China, at the outset of the crisis, moved quickly to re-peg its currency against the US dollar and engineer a fiscally and credit-driven investment boom. But India’s expected 6.5% growth in 2009 also merits attention. The world’s two most populous economies were the fastest growing in 2009 and together look like contributing 1.5 percentage points (pp) to likely global growth of -0.9% (put another way, and a bit too simply, had these two economies stood still rather than grown, global growth would have been -2.4% in 2009) (Figure 2).

Looking to 2010, the first point to note is that the global recession is over – the quarter-on quarter contractions in global GDP having ended in Q2 2009 (for the G10, Q3) – and we think will stay over. Recessions are not the natural state for an economy and tend to self-correct over time, with counter-cyclical macro policy hastening the process. This recession threatened to throw the developed world economy in particular into a great depression and deflation, but concerted and unprecedented monetary, fiscal and financial-system policy action headed that prospect off at the pass. Absent another major shock, which we do not expect, the global economy should continue on its recovery path. We forecast global growth of 4.2% in 2010.

To read the full report: A TALE OF TWO RECOVERIES